Throughout life, I've gone through many different experiences in school, sports and life in general. There have been many times where I've gone through something and later found out that I could have avoided some of the obstacles I encountered if I would have listened to sound advice or reached out to someone who had already done what I was trying to do. While it is good to go through some obstacles as a learning experience, there are others that you want to avoid the first time and not experience the negative effects of what comes from them; your finances is one of them. When it comes to your finances there are a few things that you want to avoid so that you don't take steps backward and have to dig yourself out of a hole. In this article, I want to talk about some of the obstacles you want to avoid, especially if you are in your early 20's like me and want to stay in control of your finances from the beginning!
1. Not Having a Plan
Creating a financial plan helps you see the big picture and set long and short-term life goals, a crucial step in mapping out your financial future. When you have a financial plan, it's easier to make financial decisions and stay on track to meet your goals (CFP). If you don't know where you want to go then how are you going to get there? By having a plan of where you are today, and where you want to go tomorrow, it can help keep you on track as you’re making financial decisions. Your plan might change over time, but by not having one in place you will be less likely to reach some of the life goals you have set out for yourself.
2. Buying More House Than You Need
Only being a year removed from college and being overseas for 8-9 months of the year, buying a house is low on my to-do list currently. But, I realize that one day that I might want to purchase one. However, as more and more young people are realizing, renting may be more of an appealing option as opposed to buying a home--but we'll save the should you rent vs buy conversation for another post. What we are looking at is if you do decide to buy a house, how to you budget so you don’t extend yourself too much. According to Choice Home Warranty, Americans spend most of their time at home in three places, the kitchen, living room, and bedroom. While having a dining room to entertain guests or other lounge rooms may be nice, a lot of the times many rooms in a house may go unused. Starting out in your early 20's, do you really need all that extra room? Why pay extra money every month in the form of a mortgage payment for unused rooms when you could instead take the money you saved and invest it!
To make sure you know what size or type of house to buy without overextending yourself, Shark Tank Investor Kevin Oleary gave some advice, "You've got to make sure the mortgage payment is only one-third of your after-tax income," O'Leary says. "If you're paying more than one-third of your after-tax income, you bought a house that was too big and you can't afford it, because there are a lot of other costs in life: education, clothing for your kids, food, maybe you're leasing a car."
3. Buy a New Car
I'm sure many of us have a dream car that we can imagine ourselves driving in one day. The allure of going to a dealership and sitting in the latest model of the car you want and all the cool gadgets that come with it can overtake anyone! But, by buying smart when it comes to your car purchase, you can save yourself thousands of dollars. One of the reasons buying a new car is not a smart financial move is because of how quickly cars depreciate. According to Carfax "With current depreciation rates, the value of a new vehicle can drop by more than 20 percent after the first 12 months of ownership. Then, for the next four years, you can expect your car to lose roughly 10 percent of its value annually. This means that a new car can be worth as little as 40 percent of its original purchase price after five years." Since a car is not producing you any income and requires maintenance and repairs that are costing you more money, it doesn't make smart financial sense to spend a large sum of money on something that is really only needed to get you from Point A to Point B as safely as possible.
One way to still get a very nice car but avoid paying a brand-new car price tag is to buy a year or two used. Edmunds gave a great example to illustrate this. "One of the best-selling vehicles in America is the Ford F-150 pickup. It sells new for $50,154, on average. With the same F-150 example, your goal would be to find a 1-year-old used model or a used model from the current model year. (In 2019, for example, you'd be looking for a used 2018 or a used 2019 model.) A 1-year-old F-150 costs about $35,805. Compare that to the new-vehicle price of more than $50,000. If you sold or traded in the F-150 after owning it for three years, it would be worth about $31,675. Your total ownership costs for those 36 months would be about $4,130 or $115 per month. That's one of the cheapest car-buying experiences available." This makes much more financial sense to me!
Another tip when looking at how much car you can afford so you don't overextend yourself is to use the Financial Samurai's 1/10 Rule for Car Buying. The 1/10th rule for car buying is simple. Spend no more than 1/10th your gross annual income on the purchase price of a car. So, if you want to buy that new Tesla Model 3 for $35,000, in order not to overextend yourself you should be making $350,000.
4. Credit Card Debt
The topic of debt is one that seems to be more relevant in today's conversations and for a good reason. Student loan debt is rising along with the stress that comes with trying to pay it off. Having to deal with paying off large amounts of student debt is tough as is, so adding consumer debt on top of it would not help anything. Because of that why would you want to throw consumer debt on top of it? Many times consumer debt comes from trying to maintain a lifestyle, keeping up with the Jone's, purchasing the latest items in high-end fashion, shoes, or name brands just so you can look the part. Credit card interest rates are also some of the highest there is. The average credit card interest rate is 19.24% for new offers and 14.14% for existing accounts, according to WalletHub's Credit Card Landscape Report. If you are trying to build wealth and build it quickly, using your credit card to pay for things you really can't afford doesn't benefit you in the long run as you are trying to have great financial success.
Since many of the people that read this blog are close to my age, the goal is to help start on the right path of your financial journey where you might not have as many financial obligations as you will later in life. Having some tips and things to look for as your making the big item purchases like a house, car, or even certain lifestyle tips all play a part in reaching your long term financial goals. If there are other obstacles you think that can stop your financial progress, let me know in the comments below!